A Guide
To Wise Bottom-Fishing
a.k.a. Don't Buy WorldCom
by R. Scott Pearson, editor
Investor's Value View
Over the past few months, I've gotten several calls and letters regarding the down-and-out company of the day and whether to buy now as a speculation. Last year, KI-Mart was the big news, and everyone wanted to know whether this was a good stock play. Today the news is focused on WorldCom and its downfall. Thus, some people are pondering this stock for quick profit potential.
Here's the scoop: Don't buy WorldCom.
I
know! It's impossible for MCI to disappear: they're too big,
they're too popular, their service is excellent, etc. That's
the good news that everyone is talking about. But there's another
side a darker side to the story. The company filed for bankruptcy
because of their massive debt load, not just because of accounting
failures. The accounting failures probably only came to light
as a result of the company's lack of funds.
In the end, it will
be the same story as K-Mart. It won't matter whether K-Mart or
MCI survive, the shareholders will not. If the business survives
still debatable in K-Mart's case, but more likely in MCI's business
ownership will be transferred to the bondholders and other creditors
by law. This is what bankruptcy courts do. Shareholders get nothing.
If you want to gamble on MCI/WorldCom, you might consider their
bonds rather than their stocks, although I'm not thrilled with
that option either.
So, is it pointless
to look at "down-and-out" stocks as quick turnaround
opportunities? Well, we may avoid the "down-and-out",
and instead just invest in the "down-and-uncertain".
These can be awesome opportunities, but be aware that the risks
are sometimes high among these downtrodden firms.
This month, we've created
a list of 25 of these beaten down stocks which today swell for
under $5. Some are well-known businesses, other names are less
commonly known. Some are dot.coms suffering from the fallout
of that moniker, while some languish in other areas of high tech.
The energy market has taken more than its share of hits since
Enron's collapse, and that industry is well represented on the
list. Telecom, still reeling from WorldCom's collapse, is also
present. For variety, we've also included everything from media
to education, from international trade financing to pencil-graphite
production.
If you're convinced
that buying the beaten down is the best way to make money, this
should provide you vastly better choices than K-Mart or WorldCom.
We prefer anything on this list to those two doomed stocks. While
a few are pending investigation (*starred), most have fallen
simply because of the whims of the market. Some are even maintaining
profits in this tough environment.
With the market in
the doldrums, out-of-favor companies sometimes fall more than
would be rational. As a result, you might find great buys in
stocks like this. But in this market, there are great buys everywhere.
The question is when to buy.
Market timing is not necessarily wise, but when the market is falling as harshly as it has been, one can afford to wait until the stock is so low that you are virtually certain it can't go lower. Some of these stocks have reached that level.
Selecting From The Bargain Bin
Picking
a beaten-down stock requires a different kind of selection process.
Normally, most companies beaten down this far have no earnings
to speak of. Of course, if the company continues to earn money,
one can apply normal valuation techniques. By that measure, many
of these stocks appear outrageously undervalued: an indication
of great buys. But this may also be a red flag that things are
"too good to be true".
Another criteria we
look at focuses on the breakup value of the company and/or the
ability of the company to keep operating in troubled times. For
example, debt ratios are important because we want to be sure
the company will not be swallowed up in its debt payments. Book
Value tells us the value of each share based upon the accountants
valuations of assets and liabilities. Sometimes, we also look
at cash-on-hand to determine if the company is able to continue
as a going concern.
A glance at the high
and low price that the shares have sold for in the past may indicate
no more than how crazy the market was only a few short years
ago. Still, if investors were willing to pay $200 per share for
a stock two years ago, it is difficult to believe that it's worth
less than a dollar today. Maybe the reality is somewhere in between.
Openwave Systems
(OPWV $1.12, High $208; Buy Aggressively), is the top supplier
of software that mobile service providers use to offer text and
instant messaging to customers. It also provides mobile Web browsing
software. The company, which resulted from the merger of Phone.com
and Software.com, develops products providing wireless data transfer
and messaging, mobile e-mail, and directory services. A recent
acquisition of SignalSoft adds a new product line, software that
assists cellular users to locate destinations or other users.
The company has a loyal subscriber base, and outstanding growth
prospects. Openwave, however, is typical of today's bargains.
Formerly selling as high as $208 per share (no, that's not a
misprint), shares today cost only a little over a dollar. With
a book value more than 4 times that amount, virtually no debt,
and cash on hand in excess of the stock price per share, there
can be no doubt that the shares are now selling at outrageously
low prices. We believe these shares represent an outstanding
high-risk buy at current prices.
Other Bargains
Actrade's*
(ACRT $2.45, HI $44.30; Inconclusive), stock shrank after
warning that 4th quarter earnings would fall far short of estimates,
barely above breakeven. The company also announced a 20% staffing
cutback.
Calpine* (CPN
$3.70, HI $58.04; Speculative Buy), AES Corp.* (AES $2.15,
HI $72.81; Speculative Buy), Mirant* (MIR $3.49, HI $47.20;
Inconclusive), Reliant Resources* (RRI $4.85, HI $37.50;
Speculation) and other power producers have been selling off
assets in an effort to reduce debt, amidst a vicious industry
downturn. Since the Enron fiasco, energy prices have plummeted,
making many power plants unprofitable for the developers. Calpine
still sees profits, albeit lower ones, in coming quarters. Mirant
and Reliant both reported lower earnings, but still very positive
numbers. Quanta Services* (PWR 2.10, HI 63.12; Speculative
Buy), the utility-line contractor, warned that earnings will
fall way short of expectations, primarily due to loss of business
from the telecom and cable markets which have been deteriorating.
The company expects to remain profitable, however.
CMGI (CMGI $0.39,
HI $163.50; Speculative Buy) and Safeguard Scientifics (SFE
$1.21, HI $99; Speculative Buy) are two venture incubators who
fell dot.down with the dot.com industry. Nonetheless, we're still
convinced that their business model will be successful in the
long-term. Building young companies and taking them public is
not a fad. CMGI's main asset today is the search engine Altavista.com,
which it had intended to take public just before the internet
stock collapse. Safeguard owns 60% of CompuCom a leading computer
reseller. Both companies also own stakes in dozens of smaller
companies. London Pacific Group* (LDPGY $0.20, HI $325;
Speculation) also holds high-tech start-up investments, but its
primary business is investment advising. London Pacific's stock
price has been extremely volatile since its decision to back-split
shares 1-for-10 last month.
Palm Inc. (PALM
$1.00, HI $165; Speculation) has made a similar decision to back-split.
The questionable move is designed to increase the stock price
per share. However, the share price dropped almost 30% following
the announcement. Palm management has never been noted for its
brilliance, but the share price is attractive regardless.
Sonera (SNRA
$3.80, HI $93.12; Buy Aggressively) is Finland's leading cellular
carrier, with extensive properties in the former Soviet Union.
The company is selling off peripheral assets to pay down debt
as part of a restructuring effort. The recent sale of its Lebanese
operation brought in added funds. The company also recently wrote-down
its holdings in 3G, the German subsidiary, and its Italian counterpart,
after that division faltered. SNRA's remaining operations are
quite profitable, however, providing the company a solid base
to grow from. Sonera is probably one of the safest buys on this
list.
Touch America Holdings
(TAA $0.69, HI $65.75; Buy Aggressively) is one of the few
remaining competitive local exchange carriers. A few years ago,
dozens of companies started into competition against the Baby
Bells and other local phone service providers. Most have gone
bankrupt in recent months. Touch America, formerly known as Montana
Power until its electric holdings were sold off last year, survived
by building its networks without debt. The telecom operations
are the company's sole asset today. The company remains debt-free,
an enviable position to be in when competitors are declaring
bankruptcy right and left. As more competition exits the industry,
the strong that survive will have an easy time buying up the
pieces at bargain prices. Currently, these shares are selling
for about half the amount of cash the company holds, valuing
its massive fiber-optic network and strong business position
at less than zero. It is rare to see bargains like these. We'd
be buying for risk-oriented accounts.
JDS-Uniphase (JDSU
$2.38, HI $153.42; Speculative Buy) was once a popular pick among
high-tech mavens. The company is the leader in optical networking
components. Earnings have been trashed as telecom companies stopped
buying, and the company has seen its shares drop from a high
above $150. We see value here, although the company still has
struggles ahead.
Nortel* (NT
$0.93, HI $80; Speculation), similarly, is a top telecom networking
company. The former Northern Telecom is a leader in the tech
industry, but fell along with the competition, as telecom companies
reduced their spending. Even the company's sales to cellular
companies have fallen. Nonetheless, the company appears to be
viable as a going concern, and is more likely than competitor
Lucent to survive the industry downturn. We'd consider adding
a few shares at these bargain prices.
In the internet group,
Priceline.com (PCLN $2.02, HI $165; Buy Aggressively)
stock is getting pummeled, even as the company is solidifying
its hold on profitability, with hotel and rental car business
becoming a more dominant portion of the company's name-your-own
price business. The company is also relaunching its LowestFare.com
site. Priceline also announced a stock buyback, and two top stockholders,
Hutchinson Whampoa, and Cheung Kong Holdings also announced the
intention to buy additional shares on the open market.
Entrust (ENTU
$2.57, HI $150; Speculation) provides security for Web site transactions
through public-key infrastructure.
Portal Software
(PRSF $0.38, HI $86; Speculative Buy), which provides billing
software to internet and telecom companies, has struggled along
with its customers. Nonetheless, the firm is well positioned
to survive the industry downturn, and grow when the turn comes.
Pumatech (PUMA
$0.50, HI $102.44; Speculative Buy) makes synchronization, notification,
and Web rendering software for wireless appliances. It, too,
is struggling due to troubles in the broader industry, but also
carries no debt and has outstanding products to sell when things
turn around.
Vitesse Semiconductor
(VTSS $2.14, HI $115.69; Speculation) and Applied Micro Circuits
were the circuit-making darlings of the high-tech craze. Today,
they are the Rodney Dangerfields of the semiconductor world.
We see opportunity here.
Penton Media (PME
$0.57, HI $36.37; Speculation) is a leading publisher and trade-show
organizer, which has been punished by the corporate cutbacks
in advertising and promotion. April's Internet World Trade show,
for example, saw 75% reductions in participants, and advertising
has slid in many of its offerings. However, the natural foods
segment and industrial shows like the recent Northern Alabama
Industrial and Machine Tool show aren't falling. We expect this
company to return to profitability once they've worked through
this tough period.
Edison Schools (EDSN
$0.98, HI $38.75; Speculation) is the largest private-sector
administrator of public schools.
Dixon Ticonderoga
(DXT $1.50, HI $16.93; Inconclusive) developed the #2 pencil
in 1913. Today, in addition to pencil-graphite, the company also
makes art supplies under the Prang brand name. Dixon is struggling
with a debt burden, but has raised some funds by selling its
refractory unit.
Editor's Note: R.
Scott Pearson is editor of Investor's Value View, 2254
Winter Woods Blvd., Suite 2000, Winter Park, FL 32792, 1 year,
12 issues, $129. Investor's Value View is a straightforward investment
report featuring value and growth-oriented stock picks, financial
news, money tips, and useful insights for investors. Visit the
Web site at www.valueview.net.
